Conservative Logic

An economic guide to politics, designed for post-Baby Boomers

Individual Responsibility

Posted by A Hamilton on April 11, 2008

In light of McCain’s disappointing flip-flop on the proposed housing market bailout, I think it’s worth bringing up the concept of individual responsibility and moral hazard.

Our form of market-based capitalism breaks down if economic actors — people, companies, etc. — aren’t held accountable for their financial decisions. As this excellent article correctly points out, we are sliding down a slippery slope towards a “bailout culture” that could undermine capitalism by decoupling risk from reward:

“Homeowners must learn that there are risks to using a home as an ATM. Investors who borrowed to flip condos must learn the downside of such risk. Individuals who steered money from insured bank deposits into uninsured money market accounts to pick up 1% more yield – like the institutional investors who purchased complex securities with little due diligence – need to know that in an efficient market, extra yield means extra risk. Those who played the derivatives market, focusing more on computer-driven pricing models and less on managing counterparty risk, must pay for that oversight. And, much as it is impolitic to say, people who took money from lenders and signed without considering how they’d repay those loans must also be held accountable.”

Is a bailout really worth undermining basic principles of our economy — especially given that many of those who will benefit from the bailout are themselves guilty of fraud? And is it fair that those who acted responsibly and who accurately assessed market risks and returns will be forced to fund the bailout? Finally, if the bailout happens (and it likely will) are we really encouraging better behavior, or just contributing to a culture of economic irresponsibility? If people know they will get bailed out by the nanny state, next time around they will be even more irresponsible with their financial decisionmaking. This is the essense of moral hazard.


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